Top 5 Tips for Selling a Business?
#1: Create a competitive auction process
Over the last year we have been releasing Shield M&A's Top 5 Tips for Selling a Business, one at a time. During the countdown, we have witnessed the most threatening economic downturn in living memory.
It may be prudent to postpone the launch of a business sale if global economic conditions threaten the success of the process. Not every sector of the economy is so badly affected, though; much of the healthcare sector for example, has escaped the destruction wrought in property-related sectors.
But, whatever the macro-economic and market conditions, our experience shows that sellers can have much greater influence over the outcome of a business sale process than is generally supposed. There is a set of secret levers they can pull (or ignore) which have the power to make the difference between failure and success, and to produce a prodigious premium in the price achieved.
'Create competition' is our top tip when selling a business, because a competitive bidding process works wonders in business exits. We see it time and time again. It's so striking and so regular that we've spent a lot of time thinking about why competition among buyers is so powerful for a seller.
When selling a business, why is a competitive M&A process so important?
A competitive auction process pushes a buyer from his greedy 'default position' to a fair 'rational investor' position. Let's explain that.
- A buyer's greedy 'default position' is expressed when he thinks to himself "How big a discount to stand-alone value can I get away with offering here (given that I regard synergy and strategic value as mine to keep entirely for me, since they wouldn't arise without me)?"
- A fair 'rational investor position' is expressed when a buyer thinks to himself "How much can I afford to pay for a business - taking synergy and strategic value into account - while still achieving a reasonable risk-weighted return for me on that investment?"
If synergy value and strategic value in a business combination with a buyer are significant, there is a world of difference between the offers which result from these two different lines of thought.
But why would a buyer bid on the basis of the 'fair rational investor' position?
Only because if he didn't, he would fail to win the prize. In other words, because he has to compete with other potential buyers who are also attracted by synergy and strategic benefits.
It's the competition that makes it impossible for any one buyer to 'steal' synergy and strategic value (and even some stand-alone value). A buyer may not like having to share synergy and strategic value with the seller, but he will do so if it's the only way to secure an investment which offers his target return on investment.
So the seller's challenge is to create the kind of competitive process that gets buyers off their greedy high horses and onto level ground, where they all understand that significant synergy and strategic value is at stake and will have to be fought for. This is where Shield's experience and expertise is worth its weight in gold.
Why is business valuation about more than just economic fundamentals?
A competitive bidding process works to confirm and cement the judgements buyers are making about the value they see in a situation.
Business valuation, though it has (or ought to have) foundations in economic fundamentals, is still a 'psycho-social' phenomenon:
- People take comfort from the sense that others see value where they do.
- Buyers feel vindicated in their perception of value by the fact that others also perceive value at similar levels. And that fact means that a buyer has the reassurance that, if he had to, he could probably resell the target business at that sort of level to a third party.
- Shared judgements tend to reinforce each other. This is the crowd dynamic that also underlies financial bubbles and crashes. You need to harness it in your business sale process if you want to maximise price.
So that's why a competitive auction process is crucial for optimising the outcome of a business exit. And that's why you may well get into trouble if there isn't any competition, especially if a single potential buyer comes to realise that fact.
Sophisticated buyers, by the way, will test sale processes to see if they can detect signs that competition is lacking, and you should expect them to exploit the situation mercilessly if so.
Why do we need to preserve the option to trade on?
One important countermeasure worth taking in any event is to preserve the 'we can trade on' scenario.
It is astonishing to us that shareholders sometimes make announcements like "we've taken a decision to sell this (non-core) business by year end". Why give such a hostage to fortune?
We've seen last-remaining bidders for such businesses ruthlessly exploit sellers' lack of alternatives when a buyer realises he has a seller over a barrel. But a seller who has nurtured the alternative of carrying on with the business and relaunching a business sale process at a later date is protected from exploitation by a sole buyer.
The 'trade on' alternative in effect preserves competition, by creating the prospect of a competitive process in the future. Here again, even in gloomy scenarios, we find that a competitive process works wonders!
Can I test the market to see if it's the right time to sell my business?
At Shield Corporate Finance, we advise that potential sellers may well be better off waiting - to avoid the risk of a failed business sale, or to achieve a better price when market conditions improve. In fact, we have developed a proprietary way of testing the market in order to help clients determine whether or not to sell a business under prevailing conditions.
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Want to find out more? We work with businesses with operating profits of £500k> (to which we offer a free business valuation), in any sector, anywhere in the world. Contact us for a no obligation chat. |
© Shield Corporate Finance May 2009
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